Thursday, July 24, 2014
As I explore the future of Berkshire Hathaway in my forthcoming book Berkshire Beyond Buffett: The Enduring Value of Values, one topic I address for Berkshire post Buffett is whether the company should remain public or be taken private.
After all, once Bufffett is gone, you might expect activist shareholders to urge liberalizing its dividend policy (hasn't paid a dividend in fifty years), divest weaker subsidiaries (it has never sold a subsidiary in forty years), and break-up the diverse conglomerate (engages in hundreds of different lines of business).
Venture entrepreneurs and seasoned executives alike often weigh the pros and cons of a U.S. company being privately held or publicly listed. That goes for start-ups trying to decide to make an initial public offering as it does for listed companies trying to decide whether to go private.
Everyone considers the transaction costs of such a switch high because IPOs and going private transactions are complicated, requiring paying accountants, appraisers, lawyers and other professionals. They are also time-consuming.
So setting aside transaction costs, let’s highlight the usual pros and cons, to do an IPO or stay public:
● access to capital
● liquidity for shareholders
● a currency (stock) to pay managers or make acquisitions
● cache from the sign of business maturity or stature
● the public arena invites the threat of hostile takeovers via proxy battles or tender offers
● rigid governance requirements, especially board size, independence and oversight
● Wall Street analyst attention that drives focus on short-term results, not long-term prosperity
● required disclosure, posing direct administrative costs and potential indirect costs as to competitive matters
● exposure to securities lawsuits by disgruntled stockholders
Although disclosure may be a “con” to a company, from a social perspective, watchdogs value the transparency, especially as to matters of stewardship and corporate social responsibility of larger institutions.
Assuming such a list is roughly complete, how should you evaluate the situation for Berkshire Hathaway? Stipulate that it had good reasons for public company status in its early days, the 1970s and 1980s, even the 1990s. Is it still worth it today?
As to the usual advantages of being a U.S. public company, most are inapplicable to Berkshire or less valuable compared to other public companies:
● Berkshire is a net supplier of capital, generating oceans of it from 60+ insurance and non-insurance operations and investments in marketable securities
● if Berkshire needed or desired external capital, its decentralized structure would pinpoint the particular subsidiary of interest which could directly offer public debt to supply it, as its Mid-American Energy subsidiary does
● Berkshire shareholders, as a group and by self-selection, are long-term holders, the company boasting below-average share turnover, reducing the value of liquidity for existing holders and remitting the typical market liquidity value to aspiring shareholders
● Berkshire never uses its stock to compensate anyone
● Berkshire rarely uses its stock in acquisitions, strongly preferring cash to the associated dilutive effects, and limiting use to a component of consideration paid in very large acquisitions where it is valued such as for tax advantages (the $44 billion acquisition of BNSF rail is a good example)
● Berkshire does not need any cache from a public market listing (though it may have valued slightly being added to the S&P 500 in 2010 to replace BNSF after acquiring it)
As for cons, the threat of a hostile takeover effort at Berkshire is remote, either so long as Buffett (or The Gates Foundation succeeding him) remain controlling shareholder(s) or a concentrated group of Buffett-Berkshire traditionalists command majority voting power. (Built-in deterrence includes Berkshire’s ownership of large regulated subsidiaries in the fields of energy, insurance and rail.)
But other cons are more acute in Berkshire’s case than at most companies:
● part of its historic success is due to a board in place for several decades, a small, close-knit group of insiders, family members and friends, a structure made illegal by the Sarbanes-Oxley Act of 2002 which imposed rigid governance requirements on public company boards
●one of Berkshire’s most valuable traits is its long-term horizon (50 years by mandate of corporate headquarters), accepting quarterly and annual earnings swings that competitors avoid at the expense of long term value
Finally, even the watchdogs don’t get the usual payoff in disclosure quality, because so much of what happens at any subsidiary (even if highly material to any given one) is simply immaterial in the Berkshire context.
Among pros of a public listing that are peculiar to Berkshire: hundreds of thousands of shareholders available to attend Berkshire’s famous annual meeting, which would be reduced to fewer than 300 after a going private transaction.
But if such are the only reasons for a magnificent company such as Berkshire to stay public—stock for the occasional deal and a flock of holders—one moral is the need to reexamine our faith in rigid governance requirements and our allergies to earnings volatility.